1. October 2018 Alexander Plekhanov
Who is most at risk from trade wars?
An economic update for the EBRD regions
October Alexander Plekhanov

2. Growth in the EBRD region, %
Growth momentum remained strong in H but is expected to weaken somewhat
4.1% in H1 on a 12-month rolling basis, supported by US fiscal stimulus, exports
Nowcasting indicates deceleration in H and 2019 to around 3.4% on trade risks, weaker data from advanced Europe, signs of late cycle (consumption-driven growth)
External environment: Financing conditions tightening + trade wars + dearer oil
Growth in the EBRD region, %
Source: National authorities via CEIC, IMF and authors’ calculations. Dotted line represents nowcast based on 152 global indicators.

3. EM financing conditions: Still neutral-to-favourable but tide has turned with yields widening
In terms of levels of interest rates for EMs, they remain as low as &
In terms of change, 5th steepest tightening after 2008; 2001; Greek debt (2011); 2014
Yields, %
Average working day (wd) increase:
1st hike (05/07/2001 – 23/01/2002; 140 wd): bps/wd;
2nd hike (05/06/2008 – 28/10/2008; 104wd): bps/wd;
3rd hike (02/08/2011 – 04/10/2011; 45wd): +3.44bps/wd;
4th hike (24/06/2014 – 16/12/2014; 127wd): +1.18bps/wd;
5th hike (05/04/2018 – 05/09/2018; 110wd): +1.25bps/wd;
Source: Bloomberg.

4. Non-financial sector corporate debt, % of GDP
Countries where foreign currency debt rose fast are vulnerable – as in the case of Turkey
Regions’ overall corporate debt ↑ to 61% of GDP in 2018 from 42% in 2007, largely external and/or forex
Non-financial sector corporate debt, % of GDP
Source: National authorities via CEIC; IMF, WB, BIS, OECD via Joint External Debt Hub. Domestic debt numbers are based on bank balance sheet data from national sources. External Debt data consists of external loans from BIS reporting banks, as well international debt securities.

5. Non-financial sector corporate debt, % of GDP, BIS estimates
Some EMs outside the EBRD regions are also vulnerable but in China debt is predominantly domestic
Non-financial sector corporate debt, % of GDP, BIS estimates
Source: Bank for International Settlements (BIS) and authors’ calculation. BIS estimates may differ from estimates based on national sources.

6. External financing requirements and reserves, % of GDP
Most countries in the region have significant buffers in case of a major reversal in capital flows to EMs
But pockets of risk: Reserve coverage of one-year gross external financing needs is relatively low in a number of countries, including Belarus, Georgia, Mongolia, Tajikistan, Tunisia, Turkey and Ukraine.
External financing requirements and reserves, % of GDP
Source: World Bank WDI and author’s calculation. External financing requirements calculated as the sum of current account deficits and short-term external debt. External financing requirements calculated as the sum of current account deficits and short-term external debt. Euro area economies not shown

7. Global growth ↑ by 0. 6 pp in 2017 to 3
Global growth ↑ by 0.6 pp in 2017 to 3.8%, trade growth picked up to 4.7% reflecting stronger investment
Global trade has also been aided by weaker US dollar (exports/ imports are commonly priced in US$)
Global growth, %
Source: World Trade Organisation (WTO) and authors’ calculations. GDP growth is weighted using purchasing power parity-based values.

8. Rise of global trade came hand in hand with falling tariffs – can this be undone?
Global tariff rate and trade
Source: Thomson Reuters

9. The art of no deal: Who is most at risk in an extreme trade wars scenario?
US imposed 10% tariff on ≈ 45% (US$ 230+ billion) of imports from China, rising to 25% tariff on 1 Jan 19
China has so far responded by imposing tariffs on $60 billion worth of US imports, may restrict exports
NAFTA → USMCA with stricter rules of origin for cars, wage requirements: to be ratified
Earlier in March, US imposed additional tariffs on steel (25%) and aluminium (10%) including from the EU
Brexit with no special regime for trade and investment is on the table

10. Intermediate goods cross borders multiple times: a 25% tariff can raise costs by much more than 25%
President Trump encouraged US companies to re-shore production of items such as smartphones…
¾ of Chinese imports subject to tariffs are intermediate and capital goods

11. Average import content of exports averaged to 43 % in the EBRD regions
Undoing global supply chains will be
painful for businesses and costly for consumers
But may technically be possible to achieve
Average import content of exports averaged to 43 % in the EBRD regions
Source: Eora Multi-Region Input-Output (MRIO) data and author’s calculations. EBRD is simple average of countries in the EU customs union. EM-4 comprise of Brazil, India, Malaysia and Mexico.

12. The risks are higher for countries that are strongly integrated into global production chains
The region saw fastest integration into global supply chains in the 2000s
Economies in Emerging Europe tend to be very strongly integrated into global value chains
Source: WTO and OECD

13. Emerging Europe’s exports of intermediate goods >> Korea, Malaysia, other EMs
Strong integration into “factory Europe”
Economies in Emerging Europe tend to be very strongly integrated into global value chains
Exports\Imports of intermediate goods to the world
Source: WITS, World Bank and author’s calculations.

14. In a way that the region accounts for a higher share of global trade than global GDP
In Emerging Markets as a whole these shares are aligned at ≈ 40%
Economies in Emerging Europe tend to be very strongly integrated into global value chains
Source: IMF, WEO and WTO

15. Exports of finishes goods, per cent of GDP
Potential to benefit from trade diversion – exporting final goods to markets affected by trade wars
Ability to step in quickly is highest for economies already exporting a lot of final goods (as % of GDP) to markets at war
Netting out the share of imported intermediate goods -- only a part of exports’ value added is domestic
Exports of finishes goods, per cent of GDP
Source: WITS, World Bank and author’s calculations.

16. Economies benefiting from trade diversion may find themselves subject to expanded protectionist measures
Potential to benefit from trade wars versus risks
Source: WITS, World Bank and author’s calculations.

17. Long run: recreating supply chains domestically
Long run: recreating supply chains domestically? Innovation, management, size of markets
Easier to build a smartphone supply chain on the basis of a design facility in California than based on system cheap factories in Malaysia (accounting for 17% of Malaysia’s exports)
Innovation-light growth in the EBRD regions may be a challenge in this scenario
Source: Eora Multi-Region Input-Output (MRIO) data and author’s calculations.

18. Change in annual average oil price (Brent), %
Commodity exporters unlikely to gain or lose – buyers are easier to switch, demand is likely to remain robust
Brent has remained above US$ 70 / barrel since April 2018, on stronger demand, production caps by OPEC and Russia and concerns about supply disruptions
Change in annual average oil price (Brent), %
Source: Reuters and authors’ calculations. The 2018 estimate is based on January-September.

19. Exchange rate movements against the US dollar, %
Third-order effects: Flight to safety, stronger US dollar; tighter financing conditions for emerging markets
Region’s currencies have remained broadly stable, with the exception of Turkish Lira
Exchange rate movements against the US dollar, %
Source: National authorities via CEIC, Thomson Reuters and authors’ calculations.

20. Concluding remarks: Growth remains relatively strong; high risks in extreme-scenario trade war scenario
Stronger growth in the EBRD regions in 2017 and 2018 on improved global outlook, stronger investment activity, higher commodity prices
Trade wars may seem “remote” as long as they don’t target the region directly
But having benefited strongly from the rise of global value chains, the region stands much to lose
Financing conditions for emerging markets tightened fast (5th steepest tightening in 20 years) but remain neutral-to-favourable in historical perspective
Nonetheless, pressure on markets where (forex) debt has been rising high + persistent current account deficits (eg Turkey)